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Reasons for Bankruptcy Reform

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[Note: The following article is an excerpt from the U.S. House of Representatives Judiciary Committee Report 109-031. See the Full Text of House Report 109-031, with footnotes, from the U.S. Congress]

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 represents the most comprehensive set of bankruptcy reforms in more than 25 years. The new consumer bankruptcy provisions in the Act came as a response to several factors.

1. Increase in Bankruptcy Filings

The recent escalation of consumer bankruptcy filings does not appear to be just a temporary event, but part of a generally consistent upward trend. In 1998, for example, bankruptcy filings exceeded one million for the first time in our nation's history. Over the past decade, the number of bankruptcy filings has nearly doubled to more than 1.6 million cases filed in fiscal year 2004.

As a result of this trend showing increased bankruptcy filings, there is a growing perception that bankruptcy relief may be too readily available and is sometimes used as a first resort, rather than a last resort. Despite the view of opponents of bankruptcy reform that abuse in the system is not widespread and that most bankruptcy filings result from causes beyond debtors' control (such as family illness, job loss or disruption, or divorce) the U.S. House of Representatives Judiciary Committee concluded that bankruptcy reform was nevertheless necessary.

2. Losses Associated with Bankruptcy Filings

There are significant losses asserted to be associated with bankruptcy filings. As one witness explained during the Senate Judiciary Committee's hearing on the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 earlier this year:

Like all other business expenses, when creditors are unable to collect debts because of bankruptcy, some of those losses are inevitably passed on to responsible Americans who live up to their financial obligations. Every phone bill, electric bill, mortgage, furniture purchase, medical bill, and car loan contains an implicit bankruptcy 'tax' that the rest of us pay to subsidize those who do not pay their bills. Exactly how much of these bankruptcy losses is passed on from lenders to consumer borrowers is unclear, but economics tells us that at least some of it is. We all pay for bankruptcy abuse in higher down payments, higher interest rates, and higher costs for goods and services.

According to some analyses, the increase in consumer bankruptcy filings has adverse financial consequences for our nation's economy. For instance, it was estimated that in 1997 alone more than $44 billion of debt was discharged by debtors who filed for bankruptcy relief, a figure when amortized on a yearly basis amounts to a loss of at least $110 million every day. These losses, according to one estimate, translate into a $400 annual 'tax' on every household in our nation. In 2003, the Nilson Report (a credit industry newsletter) announced that issuers of proprietary and general purpose credit cards 'lost $18.9 billion in 2002 from consumer bankruptcy filings,' an increase of 15.1 percent over the prior year. The Credit Union National Association (CUNA) reported that credit unions, as of 2002, lost 'nearly $3 billion from bankruptcies' since Congress began its consideration of bankruptcy reform legislation in 1998.

3. Potential Bankruptcy Abuse

A third factor motivating comprehensive reform is that the present bankruptcy system has loopholes and incentives that allow and -- sometimes even encourage -- opportunistic personal filings and abuse. A civil enforcement initiative undertaken in 2002 by the United States Trustee Program (a component of the Justice Department charged with administrative oversight of bankruptcy cases) has consistently identified such problems as debtor misconduct and abuse, misconduct by attorneys and other professionals, problems associated with bankruptcy petition preparers, and instances where a debtor's discharge should be challenged.

4. Debtors' Ability to Repay Debt

A fourth factor relates to the fact that some bankruptcy debtors are able to repay a significant portion of their debts, according to several studies. Current law, however, has no clear mandate requiring these debtors to repay their debts. According to the National Association of Bankruptcy Trustees, '[w]hile there is a universal agreement among the courts that an individual debtor's ability to repay his or her debts from future earnings is, at the very least, a factor in determining whether substantial abuse would occur in a chapter 7 case, there are differences among the courts as to the extent to which they rely on a debtor's ability to repay.'